What is the purpose of self-financing?

Every company in business needs to evaluate its self-financing. It’s a way of taking stock of one’s financial situation, but also a way of taking stock of one’s future. This process is essential, and depends on each company’s past or projected income statement. An overview of how self-financing works.

The principle of self-financing

For a company,self-financing reflects its ability to finance itself. In other words, it’s proof that the company can draw on its own cash flow to complete a project. It therefore uses its retained earnings to finance its investments. Its financing system is internal, as it uses its own reserves. It doesn’t need a bank loan, nor does it need to sell capital. Recognition of the importance of self-financing emerged around the 1980s. It was at this point that companies became aware of the importance ofhaving equity capital, and this is what encouraged self-financing.

Calculating a company’s self-financing capacity

In business terms, the interpretation and calculation of self-financing highlights the resources generated after a company’s operating cycle. If you visit www.barometre-entreprendre.fr, self-financing is simply the difference betweencash in and cash out after an operating cycle.

The purpose of self-financing

Determining the excess wealth generated by a company’s professional activity serves several purposes:

• valuation of dividends to be paid to shareholders and associates ;
• repayment of loans to increase working capital and secure cash flow ;
• financing company investments to boost competitiveness;
• assess a company’s financial health and check that its business model is working properly.

Simple formula for calculating self-financing

Self-financing is the difference between net income and other non-cashable income. Non-cash expenses must also be taken into account, and distinguished from proceeds from the disposal of assets. Lastly, there is the difference between the net book value of the assets sold and the share of subsidies transferred to income for the financial year. Self-financing can also be calculated on the basis of EBITDA. You associate the latter with cashable income and differentiate it from cashable expenses. Otherwise, you calculate your net income by deducting loan principal repayments from it.

Interpretation of self-financing

When your company’s self-financing calculation shows a positive result, it means you’ve made an operating profit. In this case, you can convert your assets into cash. It can be used to pay shareholders and associates, or to invest in assets. Generally speaking, it must be equal to 5% of your sales if your company is subject to corporate income tax. If your company is subject toincome tax, it must be equal to 15% of your sales. Whenself-financing is negative, it simply means that your company is not generating enough wealth. As a result, it is unable to fully cover its operating cycle. If this is your situation, you often need external funding to operate. For example, you may need to borrow or obtain a capital contribution to get your cash flow back on track. To make up for insufficient self-financing, you need an efficient business model that’s adapted to your situation.

The last word

When you finance your home, you are subject to significant financial burdens. This will put a further strain on your cash flow. To increase your self-financing capacity, it is advisable to increase the number of cashable products. For example, you can slightly increase the selling price of a product or service when it doesn’t have a major impact on the customer. At the same time, it’s important to reduce your cash expenses, like your fixed expenses, to improve your gross charge.

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